Professor Sidney Winter, Deliberate Learning and the Evolution of Dynamic Capabilities. June 2002

I have seen first hand the effects of blogs and wiki's in the development of this software application. These two technologies are transmitting the ideas contained within these pages throughout the world to like minded individuals. The effectiveness of this communication is intoxicating. Everyone that has an interest in this project can be metaphorically and literally on the same page. The communication of these ideas in any other medium would be impossible.

I feel my effectiveness and productivity are enhanced substantially by so many people reading and learning so much about these ideas. The beauty of these technologies is that the people who join this community will immediately find their effectiveness and productivity enhanced as well. As individuals join the community they're able to contribute and build off these ideas. Which brings us to this article by Professor Winter.

Professor Winter has been a valuable contributor to the establishment of the ideas contained in this development project. The label on this web log has 10 entries attributed to his papers. Winter's special area of expertise has been organizational learning and knowledge management. What he describes in this paper is directly applicable to this project, and therefore can help us to define the many pitfalls and opportunities we may encounter.

In his introduction he is very specific as to the type of organizational learning and the dynamic capabilities that an organization can attain.

This paper investigates the mechanisms through which organizations develop dynamic capabilities, defined as routinized activities directed to the development and adaptation of operating routines. It addresses the role of (1) experience accumulation, (2) knowledge articulation, (3) knowledge codification processes in the evolution of dynamic, as well as operational, routines. p. 339

The discussion therefore is not just about the knowledge repositories that we have, but also the speed at which organizational learning occurs. Professor Winter provides a framework in which we can analyze these attributes, defining them as;

Operating routines; Learning processes geared towards the operational functioning of the firm (both staff and line activities).

Dynamic capabilities; as the firm's ability to integrate, build, and reconfigure internal and external competencies to address rapidly changing environments. p. 340

Dare I ask if it is possible to have this dynamic capability and operating routines inherent in our wiki within the first or second iteration of the Preliminary Specification? That is to say, can we capture the substance of the industries operating routines within the very initial work. And then, have the performance of the activities in our wiki actually impact the way in which the industry operates. Is it possible that, even before we commence the coding of software that these knowledge repositories are the key element in moving the industry understanding forward? I think that is what is being suggested here by Winter as he states.

Beyond theory building, we hope that the present paper provides useful guidance for future empirical inquiry into the role that articulation and codification processes play in creating dynamic capabilities. That is its principal purpose, and although the existing empirical base is thin, we consider that there is already good reason to believe that significant progress in that direction is quite possible. p. 350

and

DEFINITION. A dynamic capability is a learned and stable pattern of collective activity through which the organization systematically generates and modifies its operating routines in pursuit of improved effectiveness. p. 340

Based on my understanding of the nature of the idea of using the Joint Operating Committee and those contained in the Draft Specification, our opportunity is not to just document the business within our knowledge repositories, but the ability to travel at a speed and understanding that is in excess of the earth sciences and engineering demands of the producers. Where the difficult questions are asked and with the collective intelligence of this community we are able to move the industry, build the software to support those organizational definitions and provide the producers with these dynamic capabilities.

Professor Winter defines the characteristics of the Learning Mechanisms and their influence on operating routines.

• Experience accumulation.
• Knowledge simulation.
• Knowledge codification.

In the Draft Specification we have enhanced the role of the producer firm by adding two separate and distinct types of work carried out by those that work for the firm. Determining their focus as being either long term or short term is the definition between the two types of workers. These categorizations are contained within the Knowledge & Learning, and Research & Capabilities Modules of the Draft Specification. Whereas the Knowledge & Learning is focused on the operational efficiencies of the JOC and the Research & Capabilities focused on the long term and strategic development of the necessary attributes to expand the "Dynamic" capabilities of the firm.

In addressing why this is done, Professor Winter states:

In a relatively static environment, a single learning episode may suffice to endow an organization with operating routines that are adequate, or even a source of advantage, for an extended period. Incremental improvements can be accomplished through the tacit accumulation of experience and sporadic acts of creativity. Dynamic capabilities are unnecessary, and if developed may prove too costly to maintain. But in a context where technological, regulatory, and competitive conditions are subject to rapid change, persistence in the same operating routines quickly becomes hazardous. Systematic change efforts are needed to track the environmental change; both superiority and viability will prove transient for an organization that has no dynamic capabilities. Such capabilities must themselves be developed through learning. If change is not only rapid but also unpredictable and variable in direction, dynamic capabilities and even the higher-order learning approaches will themselves need to be updated repeatedly. Failure to do so turns core competencies into core rigidities (Leonard Barton 1992).

In the future the oil and gas producer is competing based on their land base, engineering and science based understanding and application, these are the critical skills to have. An innovation based producer that is dynamically generating changes needs to separate the research and implementation of ideas. Idea generation does not need to be present in the JOC. Confusion and mistakes would arise if the two functions were joined. Change and innovation are the constant that will drive the dynamic capabilities in the producer firm. Where the more dynamic the firm, the more innovative and successful.

To somewhat get back to the topic at hand. I started this entry on the basis of the collective understanding and application of knowledge in this blog and the wiki that holds the Draft Specification. This latter information shows how these same principles apply to the development of the systems in oil and gas. The 11 module draft specification is to the oil and gas producer as the blog and wiki are to this community. Winter discusses an important element of how these are achieved.

Opportunity Costs. Conducting debriefing sessions and updating tools after the completion of the task cannot be done too often without diverting attention away from day-to-day operations. A balance between explicit learning activities and execution activities, between thinking and doing, is essential (March 1991, Mukherjee et al. 1999). March et al. (1991) argue that with highly infrequent events, organizations can learn from quasi histories (i.e., "nearly happened" events) or from scenario analysis. Both mechanisms entail a substantial amount of investment in cognitive efforts and, most likely, rely on the creation of written output or on the use of electronic support systems to identify and make all the assumptions explicit.

Making the analogy between the wiki and blog of this software development project, and, the Research & Capabilities and Knowledge & Learning Modules for the producer firm. These are the higher value added processes that make a producer more competitive in the future. These tasks and activities are what would be considered incremental to what the energy companies are conducting today. Almost exclusively focused on the immediate quarter has achieved the optimization of the near term profits. However the focus on execution precludes the ability to generate and build value over the long term. This separation of roles and responsibilities is what the Draft Specification modules are providing the producer.

The point of this entry, I guess, is to suggest that these higher level learning processes are supported and enabled in today's technologies. Whether it is the blog and wiki used in defining the optimal organizational makeup of an oil and gas producer. Or the Draft Specification and understanding that underlays the firms ability to find and produce commercial quantities of energy, technologies role in enabling the higher organizational performance are critical, and I would suggest necessary. Winter suggests;

The framework introduced in this paper, particularly the knowledge evolution cycle and the relationships among learning, dynamic capabilities, and operating routines-constitutes, we believe, a significant clarification of the structure of the phenomena. This inquiry is, however, still in its infancy. We know little, for example, of how the characteristics of the organizational structure and culture interact with the features of the task to be mastered in determining the relative effectiveness of the various learning behaviors.

Basing much of the Draft Specification on the solid research of Dosi, Langlois and Winter provides sound academic founding for using the JOC. I believe I have also made the case that the bureaucratic companies are unable to make the transition to this type of system. As well as the case that the bureaucratic company is failing. The difficult task that is necessary to make the People, Ideas & Objects application modules real is the investors money, and the oil and gas worker. Please contribute to this by selecting the PayPal button to provide the much needed revenue, email me your information so I can send you an invoice, and join me here.

Technorati Tags: People's Winter Organization Execution Knowledge

ESNIE update, 5 down 6 to go.

I have now completed the review of the materials for both Professor Sidney G. Winter and Professor Richard N. Langlois. There are a few more documents that I will be reviewing and those are as follows, after that, I will return to the LEM Working Paper series and any other works of Professor Langlois' that I find. The documents that I will be reviewing are;

The first one is a non ESNIE file of Professor Langlois that he co-authored with Professor Paul Robertson of University College in New South Wales in 1994.

• Institutions, Inertia and Changing Industrial Leadership. This document appears to be related to the March 2007 "Organizing the Electronic Century" that I have reviewed.

After that the next review is of Professor Oliver Williamson of the University of Berkeley. His ESNIE presentation was after Langlois' and as Langlois states in his lecture summary, his lecture was a precursor to the lectures of Williamson and Winter.

• I am unable to source the paper that may be the topic of Professor Williamson's lecture. I am assuming that his March 2007 document "Transaction Cost Economics: An Introduction" captures the context of his lecture.

The final review I will do on the ESNIE presentations (2007 Conference) is three documents and one set of slides of Professor Giovanni Dosi. As you may recall, Professor Dosi was the primary source of material for my thesis, which is the precursor or base of understanding of this blog. The documents are listed as; (download them from this site.)

• Hierarchies, Markets and Power: Some Foundational Issues on the Nature of Contemporary Economic Organizations.
• The institutional embeddedness of economic change: an appraisal of the 'evolutionary' and 'regulationist' research programmes. Benjamin Coriat and Giovanni Dosi.
• Institutions and Markets in a Dynamic World. Giovanni Dosi.
• Slides, "Hierarchies, markets and power structures: some foundational issues on the role of institutions."

Technorati Tags: Genesys, Langlois, Winter, Dosi, Williamson

The Firm in a Knowledge Perspective.

Professor Sidney G. Winter, The Wharton School, May 15, 2006, European School of new Institutional Economics presentation slides.

Professor Sidney Winter presented at last Years European School on New Institutional Economics (Esnie). Click on the title of this entry to be taken to Esnie. It appears that Professors Winter, Dosi and Langlois have submitted working papers and participated in this organization. Also, I have included Esnie in both the oil and gas and academic "Google custom search engines" you can find in the first column of this weblog. Although Professor Winter did not submit any working paper, and his presentation is only 23 slides long, there is much to learn from this resource, so lets begin.

Recall that many of the papers that have been reviewed on this blog were authored by Professor Winter and the "Winter" label will pull together the individual blog posts. With only 7 posts to date, Professor Winter's contribution is of very high quality. The firm in a knowledge perspective is something that I recently wrote about in the Life and Times of Humpty Dumpty. I suggested that Chrysler's loss of engineering capability in the move to design teams is something the energy producers needs to consider may also apply to them. In the redefining the boundaries of the firm I have also suggested here that the scientific and engineering research capability reside with the firm. This is so that the losses realized by Chrysler are not symptomatic of the move to "Design Teams", or similarly, the Joint Operating Committees in the energy industry case. And operational performance metrics override the knowledge capability within firms. I have also suggested elsewhere that the competitive advantages of an oil and gas producer depend on their land base and the capability to find and produce oil and gas are the critical competitive strategies and value creators. This article will therefore focus on the role of the firm and particularly the Research Module of our proposed application.

Winter suggests the key competitive advantage of a firm is the "Knowledge Based View" a subset of the "Resource Based View." Clearly arguing that the knowledge of the firm is the key competitive advantage. This may seem contradictory to what I just stated about the land base and engineering and science based capabilities as the competitive advantage of oil and gas producers. I think we are saying the exact same thing. What does a company know and how is it known? What key resources are required to deploy that capability? (Land, Scientific and Engineering Capabilities). These are more direct questions that seek to reconcile the two different "views" of what has been stated. It is the knowledge of the firm and the ability to deploy it that makes the firm more competitive. And Winter concurs with this assertion with the following quotation;

"Some speak of a competence view or a capabilities view or even a dynamic capabilities view -- all to roughly the same, fairly vague, effect." Slide # 2.

As we have discussed before, in determining the boundaries of the firm and the market. I believe the market is ready to take on a greater role in deploying and developing the innovative approaches to how, what, where, when, who, and why of the industry. To have the contracts between firms free the hand of the market to conduct the operations in dare I say a "just in time" basis. These contracts are able to handle the transaction costs better then the bureaucracy is able to micromanage at this time, primarily through enhanced Information Technologies. And it is this thinking that Winter states

"In that view, firms are where productive knowledge lives, the only place it lives, and knowledge does not travel among them. When firms are a "nexus of contracts" or have boundaries determined only by transaction costs, this traditional perspective tends to fade form view." Slide # 3.

Here I think Winter, is also making the assumption that the move to Design Teams at Chrysler is responsible for the slackening in the intensity of global engineering capabilities. And therefore the risk of a degradation in firm knowledge and capability is a potential outcome of organizational change focused on moving to a market perspective only. The firm exists, and it is the firms sole responsibility for knowledge.

On the next slide Professor Winter comes in with a few solid home runs.

"On this view, firms are central to the social arrangements for storing productive knowledge for extending its application, and for advancing it - three very closely related economic functions."

and

"Of course, there are also other players - other types of institutions, organizations and individual roles complement the firm role." Slide # 4.

This last point firmly pointing to the production related transactions, and other activities of the Joint Operating Committee as proposed in this table.

Winter then makes the point of this discussion with a handful of objectives. Slide # 5.

• "Explain what has been added to the traditional understanding of knowledge and the firm."
  
• "Point out some specifically "institutional" aspects of the current view."
• "Take note of recent and potential research topics in this area."
  

It is also at this time Winter takes the entire scope of operations and opens it up for consideration and discussion. Slide # 6

• "Organizational learning."
  
• "Creativity and innovation, and diffusion." (Innovation has been primarily assigned to the market or JOC.)
  
• "Knowledge transfer -- transfer of practices, replication (broad scope), imitation (from afar)"
• "Industrial and technological evolution."
• "Knowledge Management."
• "Communities of practice, networks."
• "Routines, capabilities, dynamic capabilities."

Outside of innovation these items should be conducted primarily by the firm. With the caveat that items like "creativity" are not the sole domain of the firm or the market but the global oil and gas industry.

Next Winter asks for and attempts to define what knowledge is. Noting that "it is to achieve some understanding of how society's work gets done." Let a definition emerge! (If needed.)" And Winter provides an excellent definition of "productive knowledge that guides work" with a few global parameters. Slide #'s 8 & 9.

• "Situated, context dependent."
• "Embedded - in physical, temporal and social contexts at various levels."
  
• "Partly Tacit - skills, pattern recognition, not facts."

If we look at these three parameters and the scope of operation of the upstream oil and gas producer. We see the constraints and opportunities based on this definition of knowledge. I hesitate to discuss the impact of these three categories of knowledge for fear that I may limit the scope of the knowledge base. I will state however that the importance of this definition needs to be codified in this applications Research Module. "How" may have to wait until I complete more of this research into this critical area. That I believe the energy industry needs to move in this direction obviously resonates with the academic community overall. Today there is more research being put into these areas. It is overwhelming in volume and quality of the work being done. I can also assure my readers that the scope of this problem, what I am asserting as the "Chrysler Issue", for purposes of this blog, will not be raised as a reason for any failure associated with this software application. The scope of the "firms" responsibilities has not diminished in my opinion. The firm needs to be as strong, and as involved in their operations then they ever have been. The boundaries of the firm, and the allocation of some responsibilities to the market does not provide any opportunity for the "Firm" to rest. The transition will bring an enhanced focus to the competitive differentiators of its land base and this knowledge stuff. And Winter agrees. With Slide # 10 recreated here.

"Therefore,"

• "We must put aside, probably forever, any ambition of drawing a sharp conceptual line between productive knowledge and the context in which such knowledge is operative."
• "All three of the named considerations point to the infeasibility of that; it is a futile exercise."
  
• "The good news: dropping the idea may be the main key to understanding knowledge."

It is at this point that Winter provides an excellent discussion on the issues around personnel turnover and firm knowledge. Citing a combination lock with three numbers from 0 to 9 on each dial. If each dial were represented as an individual, it is fairly easy to replace only one, in fact it would only take 10 tries to have the key replaced. If all three need to be determined it may require a 1,000 searches and 500 expected in order to restore the combination. A strong analogy to the human resource issues that are being faced in the oil and gas industry as we transition to new leadership and management. The retirement of the baby boomers in the next 5 to 10 years, based on this analogy, may be devastating to the operations of the firm and market. If the knowledge that is contained within the boomer generation isn't captured in the short time available, we could experience serious difficulty.

It is at this time that I want to add this information to our table and module breakdowns. And this is how I see the situation evolving;

Construct	Market	Firm
Joint Operating Committee	P	s
Military Styled Command and Control	s	P
Transaction Costs	s	P
Production Costs	P	s
Innovation	P	P
Routine, compliance and accountability	s	P
Research	s	P
Development	P	s
Financial Framework	P	s
Legal Framework	P	s
Cultural Framework	P	s
Operational Decision Making Framework	P	s

P = Primary
s = secondary

Application Modular Breakdown

So if we take a moment and define some of the modular architecture of this system.

• Partnership Accounting Module,
  

• Petroleum Lease Marketplace,
  

• Human & Supplier Resource Marketplace,

• Financial Resource Marketplace,

• Governance & Compliance Module, (a.k.a. Military Command & Control Structure)

• Research Module (Primary is the Firm)
  
• Firm Knowledge Objectives
• Storing Productive Knowledge
• Extending Knowledge Application
• Advancing Knowledge
  
• Organizational Learning
  
• Knowledge Capture
• Situated, context dependent.
• Embedded - at various levels
  
• physical,
  
• temporal
  
• social contexts
• Partly tacit
• Skills
• Pattern Recognition
• Not facts
• Replication
• Imitation
• Knowledge Management
  
• Industrial and Technological Evolution
• Communities of Practice, Networks
• Creativity, Innovation and Diffusion
  
• Other
• Routines
• Capabilities
• Dynamic Capabilities

I think the primary thing we have learned through Professor Winter's slides is that the firms role is not diminished in this proposed organizational change. And with some concurrence on the issues regarding Chrysler. Some of the aspects and attributes are ceded to the market, however, the firm is as vitally needed in these new capacities as it has in the past 100 years. As we look to the challenging future of the energy industry, the needs to address these points will become more prescient as the knowledge contained within the firm begins to retire, and hopefully left in the hands of those that will able to continue on.

I noted in the entry about Matthew Simmons that May 2005 was possibly the point of peak oil. Which may or may not be the case. It is important to realize an interesting aspect of all declarations of peak oil in terms of a single field or a single country. (Such as the U.S. onshore peak occurring in 1972) Each time that the Peak has been attained it is also the point where half of the recoverable oil or natural gas remains in the ground. So even though the total throughput will continue to decline. At least we know the reserves that remain are what fueled the world economy for the past 140 years.

Technorati Tags: Genesys, Winter, Organization, Governance, Innovation

Replicating Organizational Knowledge: Principles or Templates?

Professor Sidney G. Winter
Professor Charles Baden - Fuller

Another paper by Professor Winter, this one co-authored with Professor Charles Baden - Fuller. It poses an interesting question with respect to the activities of the oil and gas industry. Should the homogenization of the administration occur? Will it lead to a lack of competitiveness in the industry? I assert that the producers competitive advantages are sought by their strategic land position, their management and the organizations ability to find and produce commercial quantities of oil and gas. The administrative burden has been codified to a large extent by the various associations and non-profit organizations that have standardized the data model (PPDM) defined the operating requirements (CAPL) asserted the acceptable accounting requirements (COPAS and PASC). A firms ability to differentiate their operations on the basis of the administrative requirements would be an abject failure at the word go. The industry has progressed very far in terms of the acceptable behaviours in the industry. The secret is to have a solid enough inventory of land, seismic and scientists pushing the edge of their sciences. Administration is an after thought, not a competitive factor.

This brings up the issue of how is the homogenization of the oil and gas industries going to occur. Simply its not, the administration will become less of a burden and the speed and innovation of the industry will no longer be organizationally constrained. Specifically, how are the optimum methods replicated from task to task, person to person and producer to producer? This is the topic of Professor Winter's et al paper. Using the two methods of "Principles" and "Templates" the authors come up with some surprisingly strong recommendations.

Abstract

"We address the challenges of providing operational measure for successful replication, and for comparing the efficacy of principles and templates. By using two longitudinal case studies of replication across the units of two multi-unity organizations, we support the central claim that in certain circumstances replication by principles can be as speedy and cost effective as replication with templates, and deliver results of comparable quality. The principle contingencies affecting the relative performance of the two methods are identified. We also point out that replication efforts can be a source or incubator, as well as an application area, for dynamic capabilities in an organization. We briefly suggest what the results may mean for theories of knowledge - based competition." pp. 2

Of the case examples one firm is in the retail distribution of oil products, with the other case example of the hotel chain in France, do not provide any direct relevance from an industry stand point. However from a large organizational point of view the case examples are effective in displaying the results of this study and their applicability to any and all organizations. The one key difference from my point of view is the capital intensive nature of the energy industry makes these recommendations more valid as the exposure to loss is higher then in a traditional labor intensive business. The bigger issue is the need and opportunity to have the standardized processes codified from an industry wide point of view. How these are replicated starts with a few quotations from Winter et al.

"In replication, an organization is intentionally reproducing or diffusing the success it has itself enjoyed in some limited setting or locale." pp. 3

"The value of replication is therefore the ability to diffuse faster than rivals can either imitate or innovate." pp. 3

"This paper seeks to clarify our understanding of the replication of organizational knowledge by introducing a distinction that has been little noticed. Our central thesis is that most organizations adopt some combination of two strategies or approaches, which we call "Principles" and "Templates". The guidance provided by "Principals" has the flavor "Let me explain why this works and the reasons why I do it is this and then try to make it work yourself - I will comment on any mistakes I see". The "Templates" approach is suggested by "Watch very carefully how I do this; then copy what I do and try hard to copy it exactly - but don't ask me why." The word why is clearly central to this distinction, being at the core of one approach while often considered a pitfall in the other." pp. 4

"Both approaches to replication can be supported by codification - by which we mean a "how to" manual recorded in the symbols of some appropriate, possibly technical, language." pp. 4

"Hence, it is rarely if ever the case that replication can be accomplished merely by supplying the manual to the recipient." pp. 5

The first question we should ask is how much tacit knowledge can be captured and codified in software? The answer to this question may vary depending on your IT capabilities and vision, I see significant benefit from the codification of the knowledge. For example, one of the most clarifying aspects of how the administrative issues are absorbed is with the use of schematics. Understanding of how the oil and gas industry operates is reflected in the physical makeup and physical flows of oil and gas. In terms of codification of the understanding of the "principles" is to have a schematic overlay appear in Google Maps. If that was possible with a dedicated industry related software developer, these schematics could populate the overlay with production flows, it becomes evident to the user how the energy related issues will play out. This is also as a result of the standardization of reporting processes primarily dictated to by the Alberta Government for its royalties, and the Energy Utilities Board here in Canada.

"In what follows, we further develop the contrast between the two approaches and seek to understand the circumstance in which each might be superior. The templates approach is understood, believed in and widely relied upon by managers in retailing and other sectors." pp. 5

"After a digression into history, the paper starts by exploring what is meant by replication, templates, and principles. It then proves the challenging problem of how we can determine whether replication has actually occurred. This sets the stage for the two in-depth case studies, which illustrate how replication by principles works; we finally discuss the factors affecting its success in the cases and in general." pp. 5

"... this opening section is a short digression into the field of economic history to show that using principles to recreate an existing success has a long documented history." pp. 6

"For example, he noted that Ford's moving production line was almost certainly "borrowed" from understanding the causal logic's behind the flour milling and other production line based industries whose "principles" were documented in contemporary magazines." pp. 6

"Hounshell points out that Colt did not gather directly the details of the mass production systems that had been developed to a fine art by the Federal armories at Harper's Ferry. Rather, inspired by their results, Colt set about designing a factory that use the spirit or principles of mass-production he had seen documented in contemporary accounts. Essentially, Colt recreated the instrumental logic for the American System without the necessity of observing the template. The Colt and Takaato experiences suggest that complex knowledge can be replicated without templates when the principles are evident and the copyist has good background knowledge and strong motivation." pp. 6

With these passages we can clearly see that the principles method of replication has been a key component of the success that business has achieved in the past 100 years. The traditional competitive forces creates the need to have some changes introduced to remain competitive. Although it may be argued that in today's market the competitive forces are diminished and the need to achieve an optimum operating focus is now driven through the lack of resources, and excessive demand, the overall objective remains the same. This objective of operating efficiency is the key motivation behind the replication across the energy industry.

What is replication?

"On the face of it, there does not seem to be much doubt that replication happens. The airport concourses and shopping malls of the great cities of the world provide ample (some would say depressing) testimony to the extent of replication activity in the arena of retailing and we know that it also occurs in other sectors. But the fact that the phenomenon is familiar belies the considerable challenge involved in defining it precisely. Indeed, the great philosopher Karl Popper warns us that defining replication requires judgement not absolutes." pp. 6

When we consider a software application that has the capability to replicate the knowledge of the users in most situations. We begin to rely on the knowledge of the user and an intuitive interface to enable the user to achieve what their objectives are. The software interface becomes a key component of achieving the work of the user and the method that the users attention is directed. Competing for the attention of the user is something that we have discussed in this blog before and is aggregated on the label attention economy. We have also discussed the division of labor and how Adam Smith was able to show that re-organizing around new divisions of labor enables economic growth. I have asserted the further division of labor will need to occur in order for the energy industry to expand its capacity. How the work is coordinated between those people and processes is the job of the the software application that I am discussing here. The interface is the manner in which the tasks and information are presented to the user in order for them to apply (replicate) what they know and understand.

"Replication of practices and routines cannot occur in an absolutely strict sense since the people in the organization change (whether on account of time or space) and the environment surrounding the organization is never entirely constant." pp. 7

"More precisely, we are concerned centrally with re-using knowledge of ways of doing things, i.e., it is essentially a matter of replication of organizational routines. Routines that respond effectively to differences in environment circumstance will produce different observable manifestations in different environment, even when replicated precisely." pp. 7

"Our conclusion on these puzzling question is that both process and outcome must matter in a fruitful definition of success in replication. Replication is successful when broadly equivalent outcomes are realized by similar means. On the outcome side, a positive return on the specific investment in replication sets a bare-minimum standard for "equivalence"." pp. 8

"Replication is about leveraging knowledge and is successful when "broadly equivalent" outcomes are realized by "similar means". In a specific context the words "broadly equivalent" acquire relatively precise meaning that are dependent on the replication intent. Likewise the works "by similar means" have more precise meanings that depend on the knowledge that is being replicated." pp. 8

I am going to boldly suggest that this is the primary reason that Users have been found to be critical to the success in the development of software. What has been described to this point is a massively difficult process to comprehend. The comprehension and implementation have to be defined and supported by the users. The iterative nature of the development triggers what the users want in the final product, and in some cases don't see what it is they are exactly after until the process is complete. To state that this process is ever complete is a bold assertion that fails on the belief and understanding that there is always a better way when dealing with the systemic innovation that is being set out to be achieved in this blog and in this software development project.

"We can learn much from the philosophers of science that have struggled with these questions. In psychology, according to Friedman, replication is paradoxical and difficult to define in absolute terms but none-the-less very clear in practice (Friedman, 1967: 149) In physics, Collins compares different kinds of replication including expert systems and comes to precisely the same conclusions." pp. 9

"So it is appropriate to recognize that in the business environment as in science, replication tests are matters of pragmatic truth, in which the understanding achieved in specific contexts carries a great deal of weight." pp. 9

What is software, Principle / Template. Professor Winter indicated that the two methods discussed in this paper were polar extremes. And it is with these two extremes we see the means at which we can replicate the knowledge of the industry to the user of the software that will be built here. The Principle method lets those that are experienced and understanding of the process to immediately run with it. Whereas the template can also help those that are less experienced in an oil and gas be productive and contribute as they learn. A hybrid approach is probably to a large extent necessary as we are dealing with something form a template point of view that is easy to implement and reduce to the lowest common denominator. But ideally that is not what we are after. The objective needs to be one that is supportive of the people who are innovating and expanding the knowledge and productive capacity of their firms and JOC's. In other words the user must be involved.

The point of the user is something that is lost on the SAP's and Oracle's. Their ability to deal with the energy industries needs have been atrocious. Their solutions are a point of view of understanding what best practice is, and implementing that concept within the software's interface. This is why the user is generally reduced to a cog in the wheel of the SAP / Oracle system. They are unable to represent what SAP defines as best practice to the activities of the firm. The JOC is not recognized or supported in these other applications and the ability therefore for the user to operate the system is constrained immediately. On these points Winter et al are clear, and I will leave it to them to explain their point of view in these following references.

How to Replicate

"What are the components of knowledge embedded in organizational processes? How are these components constructed and how do they get replicated? All methods seem to involve three key components: templates, principle's and background knowledge. Templates are working examples of the practices to be learned and principles are higher order causal understanding and rules. Background knowledge is what the recipient has to have to receive the knowledge." pp. 9

Templates

"While much of the knowledge in the template may be captured in codified form, in schematics, blueprints or manuals, the codified versions generally fall far short of capturing "all the knowledge." The key point about a template is that, notwithstanding any deficiency of the manuals, all of the knowledge must be there - in the "working example." The problem therefore is to find where precisely the knowledge resides, and to capture it for further use." pp. 9

"The use of templates typically requires the recipient to repeatedly observe the template in action. Repeated observation of the template in action is well known to assist in passing on craft skills." pp. 9

"Using templates often requires that the recipient organization borrows personnel from the donor to supervise the construction of the plant and oversee the start-up phases." pp. 9

What I am proposing in having the user involved in this process is fundamentally new, and something that has been proven in other solutions, (Google) that improve iteratively. If we sit down to approach the development of software in this manner. Will this be enough of a change in the process that we will be able to set out to attain what it is we are looking for? With success being the objective? Has software been developed by the user with industry wide replication explicitly stated? Not in oil and gas.

"In some cases, the template is a historical datum, originally created for its value as a business unit without regard to the possibility of replication." pp. 10

"The organization typically spends much time and energy when it engages in template construction, template refinement and codification of practice." pp. 10

"In sum: to use templates means that, one way or another an effective working example must exist, be observable and be actively used in the replication process." pp.10

"An obvious place where principles work better occurs when each potential recipients context differs so much that templates fail to capture the relevant information in a cost effective manner." pp.10

Principles.

This last argument of Winters is the ideal situation. "when each potential recipients context differs so much that templates fail to capture the relevant information." This is what Principles set out to achieve. Is this possible with software? With the level of education that is generally experienced in the energy industry, Bachelors being common and Masters in most disciplines, the users that this project appeals to are well educated. It is time to ensure that this talent is captured and codified within this software.

"Because the conveying of knowledge by principles is central to the process of teaching in universities, defining principles for an academic audience hardly seems necessary; we use them all the time. But further explication may be helpful for the context of organizational routines." pp. 10

"Success in conveying principles often depends, therefore, on supplementing them with more concrete examples, models, hints and sketches." pp. 10

"Armed with solid understanding of principles, the recipient organization can often find its own way to successful implementation. (This is also the premise of much academic instruction in the "principles" of this or that.) Of course, the freedom entails a risk that the implementation will be seriously deficient, as is well illustrated by what happened in many attempts to implement "quality management" principles (Zbaracki, 1998) and in the academic setting is too often revealed at examination time. Also, reliance on the principles of any particular routine in isolation risks the missing of the hazards and opportunities arising from interactions among the routines." pp. 10

"Greek and Roman armies used the theorem of two mean proportionals to build military machines of appropriate (large) scale on site, without references to individual templates and that these principles were more robust and more useful than templates had been." pp. 11

Both principles and templates require the recipient's of the knowledge to have skill and understanding, that is background knowledge. pp. 11

One of the areas that we easily forget is, to use the technology that is available. Sometimes what can be said in a variety of text, voice, image and video is worth so much more then we realize. Companies such as Sun Microsystem post a lot of customer information on YouTube. Although my competitors are not offering green screens to the user, they certainly have not been able to implement or take advantage of the rich media that is available today.

Finally Winter's et al have some things to say regarding management and the commitment to replication.

It is not always enough for top management to display commitment. It is often important also that people in the organization have reason to believe the claim that what is being proposed can actually be done and will have the intended effects. We see parallels here with the work of Garud and Nayyar (1994), who noted that many research-oriented firms had large stocks of dormant knowledge that had been kept "alive" and that a firm could access this knowledge and exploit it perhaps in new uses not originally conceived. Such dormant knowledge has a number of features that tend to reduce barriers to transfer.

Like most situations involving organization change, the replication context is shaped by considerations of resource availability on the one side and performance pressures on the other.

It may well be that the context of performance pressure had something to do both with the choice of principles over templates and with the favorable results of that choice. At the top management level, it produced a demand for prompt action and a willingness to accept risks of failure. Down through the organization, and at the working level in particular, acceptance of the burdens of substantial change may have been encouraged by the perception of a gathering threat to organizational viability, and hence to future employment prospects.

It is not that quality oriented routines and hierarchy necessarily stop innovation; it was that the particular application of these routines and hierarchy in these organizations did so. The conjunction of too many unnecessary levels with many stifling routines served to block rather than facilitate learning.

Thus replication by principles does not necessarily require the presence of pre-existing learning skills or dynamic capabilities; rather, experience with the successful use of principles can serve as an incubator for change and learning.

Conclusions.

As I indicated earlier, the authors were surprisingly clear in their conclusions. Recall also that these were large organizations that had deployed these changes in upwards of 1,000 employee groups. In the case of the oil distributor they were dealing with unionized truck drivers and clerical staff. Changing the makeup of positions that were previously handled by "other" groups. Conceptually introducing the new methods and replicating them through the organization would have been difficult. However the authors seem unconstrained in their support for the "Principles" method of replication.

"They used principles instead; we found that this achieved impressive results, as measured by tests of quality, speed and costs." pp. 28

"This further suggests that, however, that imitation (by principles) may be a much more significant as a threat to an innovative "first mover" than it is to the firm that has emerged as the winner in an extended competitive contest." pp. 29

Technorati Tags: Genesys, User, Winter, Development, Replication

Photo Courtesy David Sifry

Scale without Mass: Business Process Replication and Industry Dynamics.

Written by;

Erik Brynjolfsson, MIT Sloan School

Andrew McAfee, Harvard Business School

Micheal Sorell, Harvard Business School

Feng Zhu, Harvard Business School

August 29, 2006

This is the first of two articles I noted earlier, that Professor Andrew McAfee co-authored. As I also indicated he writes a blog that provides some value to the entire Enterprise 2.0 term that he originally coined. I find the title they have chosen here resonates with the work we are doing here. However the title makes it is difficult to discern what they are talking about. The idea that software can be reused to replicate successful business processes across industries without the mass that would generally be involved in populating the industry with the new idea. Simply software Scales without Mass.

Application of Enterprise 2.0 principles indicates the use of Web Services. I tend to think that Web Services encompasses all the transaction processing and social network systems used within a commercial enterprise. The scope of the application that we are building is this, with the upstream energy industry as its focus the separation of the transaction processing from the content management components is not desired or functional. The two need to be available simultaneously, such that the users decisions, actions and directions are followed through on the transaction processing side of the system. I would hesitate to guess that I would be in disagreement with the authors in that I would suggest the scope of an Enterprise 2.0 application consists of more then their definition.

The authors start off with a number of case studies that they use in this research working paper. This is where I digress from their Enterprise 2.0 classification. My suggestion would be that there doesn't currently exist an Enterprise 2.0 platform operational today. The wiki's and blogs that are part of both of our definitions are possibly the limit of their case research. Nonetheless this has substantial value for review and comment in this blog. Starting off they indicate;

In a series of case studies, we find firms to more rapidly replicate improved business processes throughout an organization, thereby not only increasing productivity but also market share and market value. pp. 1

We find that a positive relationship has existed since the mid - 1990's between an industry's IT intensity and its levels of turbulence and concentration growth. We hypothesis that this is the case because IT has become a means of embedding business innovation, then replicating them across an increasingly large intra-firm "footprint". Today, managers can scale up their process innovations rapidly via technology without the degree of inertia historically associated with larger firms. In other words, they can achieve scale without mass." pp. 2

I have asserted on many occasions that the upstream oil and gas industry has a high level of IT intensity. Since it is now competing on the basis of the earth sciences and engineering, this intensity will increase with the continuation of Moore's Law, and higher volumes of processors being manufactured. Denoting a golden era of abundance of processing at continually cheaper rates. Irrespective of the future processing capabilities the oil and gas firms. The industry has spent heavily in these science areas and will continue to do so. The golden era of processing power will also provide the commercial side of the energy business with new opportunities and activities that McAfee et al are discussing in this paper. If an industry's "IT intensity leads to turbulence and concentration growth" as the authors suggest then those that are able to acquire these resources and skills have secured new and expanding competitive advantages. These competitive advantages are the purpose of this development project discussed here. The faster the processes are developed, the quicker they can be rolled out to those that are able to use them. McAfee's point here is that software can scale quickly without the mass and inertia that many have grown accustomed too over the past twenty years.

When a software engineer improves a sorting algorithm in an database management program, a digital copy of that improved process can be instantly copied and included in thousands or even millions of copies of the next release of that program. pp. 4

"It is easy to see the power of replication in these purely digital domains. But economic impacts also derive from business process changes that involve technology, people and physical products. pp. 4

IT can also assist with the propagation of other types of innovation; technologies such as email, instant messaging, groupware, information portals, blogs and wikis let employees share information and ideas widely and, in many cases generate them collaboratively. Like Enterprise Information Technology (EIT), these technologies are also tools for replicating valuable business innovation, albeit ones that are less formal or structured than entire processes. pp. 6

and

It is important to note that business process replication is perfectly consistent with decentralized decision rights, and with local innovation. In many cases, the myriad small innovations and improvements generated by line employees are collectively more important that any centrally conceived business process changes. pp. 7

Even with EIT, process replication can be difficult. Commercial EIT and the Internet have lowered many technical barriers, but other impediments exist. Business process design and deployment is organizationally challenging, as is the imposition of greater monitoring.

and

Across these investigations, a consensus emerges that the observed failures have organizational root causes, not technical or budgetary ones. As one review of the literature concluded, "...extant empirical research supports the assertion that economic and technical considerations are unlikely to feature prominently when IT fails to deliver." (McDonagh 2001). pp. 7

"Organizational root causes." Thankfully the energy industry has determined the Joint Operating Committee is their key organizational construct. This alleviates them from the onerous task that many industries will now conduct to determine what their optimal structures are. However, this does not relieve the energy industry from some serious pain nonetheless.

As difficult as intra-firm propagation of novel business processes can be, propagating them across firms is typically far more challenging. The process configuration that works well in one firm might not transfer well to one with a different culture, set of pre-existing routine, mix of incentive, asset base, and approach to human resources. Empirical research show that many beneficial managerial practices are not universally diffused across firms (Bloom and Van Reenen 2005) and highlights the importance of complementarities in explaining the difficulty of diffusion (Ichiowski et al. 1997)

and

This work suggests that the boundary of the firm is a significant barrier to the diffusion of IT-enabled work changes. This conclusion is supported by research on the heterogeneity of workplace reorganizations in the presence of IT (Bresnahan et al. 2002) and by research that reveals large differences in firm - level outcomes such as productivity growth even after controlling for IT investment (Brynjolfsson and Hitt 2000). pp. 8

First, the theory asserts that while knowledge is non-rival, it is at least somewhat excludable (Romer 1990). That is, trade secrets, path dependence, intellectual property protection, and other mechanisms combine to give the generator of new knowledge the ability to at least partially exclude others from its benefits. Second, new growth theory maintains that knowledge based competition tends to become monopolistic over time (Romer 1992). Increasing returns to knowledge, a cornerstone of new growth theory, implies that leading firms will build up significant advantages over their rivals such that they become monopolies. This idea is consistent with the insight that information itself can create economies of scale because of its relative ease of replication (Wilson 1975). Monopolies are not eternal, however, because of a third stylized fact labeled "creative destruction" by Joseph Schumpeter. Competitive equilibria are repeatedly disturbed by innovation and new knowledge; consequently, new ways of working displace old ones. Outcomes and end states, as a result, become very difficult to predict (Romer 1994, Arthur 1996). One result that can be anticipated is that, as competition revolves increasingly around knowledge, Schumpeterian creative destruction becomes increasingly pronounced. pp. 9

We argue, however, that IT-based capabilities such as business process replication and standardization, monitoring, and remote collaboration are just as likely to be beneficial to larger firms.

and

This hypothesis is consistent with White's speculation that "Improved technologies of managing and monitoring may have helped overcome the inherent difficulties of managing larger organizations (Williamson 1967) and thus encouraged larger enterprises" (White 2002).

and

Our broad hypothesis is that because the capabilities IT delivers are valuable, difficult to acquire, and often transient, IT in recent years has become the opposite of a competitive leveler, or a "cost of business that must be paid by all but provides distinction to none" (Carr 2003). pp. 10

This suggests that assets and people are all the same. Which of course is not the case. How a firm, a producer and an individual would approach the Genesys application in this context would be different in terms of their needs, skills and capabilities. I can assure you that they manner in which I use Goolge would be fundamentally different then what most people understand of the resource. I would further refute that a homogenization is progressively more difficult to carry out for sophisticated tasks. As the hardware and software concepts increase in complexity, and their speed of implementation provides those that are aware and can accommodate them, can and will accelerate their business position over those that are not as quick.

That is, the volatility of market shares increase as the total IT stock in the industry increases. pp. 12

As a result, firms are able to more rapidly and completely replicate their innovations in business processes, achieving scale without mass. Other types of IT, such as email, knowledge management systems, wikis, and instant messaging allow firms to propagate innovation that are less structured than entire business processes (McAfee 2006). IT makes it possible for better techniques and processes to become rapidly known and adopted throughout the organization. pp. 19

We show through a formal model how this process can lead to increased turbulence and concentration. In particular, competition becomes increasingly Schumpeterian as innovators are able to leverage their best practices to rapidly gain market share. At the same time, competitors and new entrants have the opportunity to more rapidly leap-frog and displace leading firms. Our model is consistent not only with the increase in productivity growth since the mid-1990's but also with the higher levels of turbulence. Furthermore, as predicted by our model, concentration levels have also increased in IT intensive industries, an outcome that is not consistent with other explanations for higher turbulence. pp.19

and

Further research could also help determine the duration of IT's competitive impact. pp. 20

Professor Sydney Winter had some additional comments that are in the vein of what these authors are discussing. The document is the Economics of Strategic Opportunity and these following quotations provide some guidance regarding the homogenization of an industry. (Italics for emphasis.)

The resource allocation decisions that shape the path of advancing knowledge are necessarily made, at each point of the path, on the basis of the limited knowledge then available. Surveying available knowledge from such a vantage point is like surveying a landscape on a hazy day. Some things are close enough to be seen clearly, other remote enough to be totally invisible. The intermediate conditions cover a broad range and are complex to describe. In that range, the verdict on the visibility of a particular feature depends crucially on what definition of "visible" is chosen from a range of plausible alternative. Similarly, whether something is to be regarded as "known" or not will often depend on what one chooses to mean by "known" and why one cares; ultimately it depends on the degree of indefiniteness concerning details that is regarded as consistent with the thing being "known".

and

Visibility across the landscape of productive knowledge is arguably an even more complex phenomenon than ordinary visibility. A particularly complex type of haze arise from the fact that, in all sphere, practical knowledge consists in large measure of knowledge of how to try to find solutions to problems that have not previously been encountered. pp. 19

Thus, decisions near the knowledge frontier are made in the face of a lot of haziness about the details and significant uncertainty as to how the general picture will develop down the road. ... ...Thus, decisions are made in a haze that arises partly from exogenous constraints, but is partly a chosen response to a recognized trade off between thinking and doing, between analyzing prospects and making progress. pp. 20

There is a substantial theoretical literature on induced innovation, though the attention devoted to it falls far short of what it deserves. Most of it models the problem in a recognizably mainstream style, with a logic that parallels quite closely the standard analysis of choice of technique. This is unfortunate, since it means that the limitations of standard production theory are extended into a domain that could potentially afford an escape from them. Evolutionary modeling in the area has mostly been done incidental to other purposes, and has not been featured in its own right. pp. 22

Technorati Tags: Genesys, Winter, McAfee, Organizations, Research

The Economics of Strategic Opportunity

Authored by;

Jereker Denrell, Institute of International Business,
Christina Fang, Department of Management The Wharton School and
Professor Sidney G. Winter, Department of Management The Wharton School.

February 2003.

Continuing on with the review of the LEM Working Paper series, Winter et al wrote "The Economics of Strategic Opportunity" to address the interesting topic of how strategic opportunities arise. This article has many worthwhile points and is available here. During July 2006 I also wrote a blog entry on a similar topic from Harvard Business School Working Knowledge series. Review of these three articles is highly recommended.

Winter et al start off their working paper by noting that the ability to earn exceptional returns is contrary to what is assumed to be the instance in business. The Efficient Market Hypothesis assumes that all knowledge is available to all. In the Abstract they write;

"As emphasized by Barney (1986), any explanation of superior profitability must account for why the resources supporting such profitability could have been acquired for a price below their rent generating capacity. Building upon the literature in economics on coordination failures and incomplete markets, we suggest a framework for analyzing such strategic factor market inefficiencies. Our point of departure is that a strategic opportunity exists whenever prices fail to reflect the value of a resource's best use. this paper examines the challenges of imputing a resource's value in the absence of explicit price guidance and suggests the likely characteristics or strategic opportunities. Our framework also suggests that the discovery of strategic opportunity is often a matter of "serendipity" and access to relevant idiosyncratic resources. This latter observation provides prescriptive advice, although the analysis also explains why more detailed guidance has to be firm specific." Abstract

In energy I have seen many people who assume their role and responsibility is to spend the money on exploration and development. The inexperienced assume that the act of doing is all that is required. These people stay in business for the approximate same period of time they have a positive cash balance. On the other hand, I have seen how individuals who are given an opportunity and struggle to lay in wait for the right time, develop sophisticated business strategies, engineering or geophysical ideas that can only be proven through a methodical and painstaking process. A process they have learned through several decades of experience and study. Needless to say, the latter groups are far more successful in any type of financial metric comparison to the former.

I have also written about the reckless acquisitions some CEO's pursue and am reminded of Carly Finorina's failed attempt to acquire PriceWaterhouse Coopers technology group for $19 billion. And the subsequent purchase of these same assets a year later by Lou Gerstner at IBM for $3 billion. Is this luck that provides these people with their enhanced returns? Anyone can spend money, and the amount of money available for any transaction is truly unlimited. Self delusion comes into play and a contagious enthusiasm for the failed theory can support any size of investment or any size bank loan. Because the banker has provided you with the resources to purchase a house, doesn't mean that you do it. How the Efficient Market Hypothesis fails is somewhat based on the discussion that Winter et al write about in this article.

1. Introduction

"Barney sets forth what might be called the "bad news" about resource valuation: in general it is difficult to purchase things for less than they are worth. The interests of both the seller and rivals should stand in the way of such an accomplishment. This paper sets forth the good news about resource valuation: our stance is that "the good news is that the bad news is wrong". (Or at least, the bad news is valid only within it proper sphere.)" pp. 1

"Whether the opportunities seen are actually seized is, however, an important question. We argue that the discovery of a valuable strategic opportunity is often a matter of "serendipity" in the strict sense - not just luck, but effort and luck joined by alertness and flexibility." pp. 1

"To appreciate these points it is necessary to break out of the equilibrium mindset that dominates so much of economic theory - including, of course, the Efficient Market Hypothesis (EMH)". pp. 1

I would also ask how much does time play in making the superior returns. If one is to compete on assets based on the EMH, with its staunch believers, one will be forced to acquire the assets they need at or near the market top. The timing, effort and finding yourself going against the grain are the keys to long term success and exceptional returns. As in my case on this project, I have kept the powder dry and the candle lit and have waited for the puck to arrive, as Wayne Gretzky would say. Now that the puck has landed on my stick, it would take a significant amount of money to purchase a similar strategic opportunity / position / asset. My costs are marginal.

2. Some Fundamentals

"Financial performance and profitability. In the strategic management literature, business success is generally equated with financial performance, and financial performance with "sustained abnormal profitability". pp. 2

And here is the key to a long term competitive financial performance. If the cost of the asset is overpriced at the time of acquisition, the amortization of the assets cost over the life of asset / business will consistently lower the returns realized. Winter et al take this concept further with the following;

"Our view is that net present value - or expected net present value, where risk is involved - is the basic measure of success in the quest for strategic opportunity. It is "basic" in the sense that it stands at the limit set by Einstein's famous dictum that "everything should be made as simple as possible, but not simpler." It is possible to employ more general or sophisticated measures that NPV, and to invoke NPV in more sophisticated ways. It is difficult to make basic economic sense with a simpler analytical apparatus than the NPV concept provides. Hence, our discussion of "strategic opportunity" relates to opportunities for positive NPV undertakings, with merit understood to be measured by the amount of NPV." pp. 3

"In this "basic" economic approach, we set aside some considerations, such as organizational survival, which might make something other than the NPV of an isolated opportunity matter to management. We also set aside more important complications associated with the long term interdependency among opportunities that arise from, and affect the development of, the same set of underlying capabilities and competences." pp. 3

The importance of this discussion is of particular interest in the energy industry. The reason is that almost all metrics of valuation of what is "real" are subjective. As I stated before the costs can be comprised and reflect only the ability to spend money. That does not find or produce oil and gas. Intellectual property is the key asset of an oil and gas firm. The producers capability and capacity to find and produce energy is the key metric. How to value something that is in the ground with many possibles and probables are unknown. What one man sees as garbage, another may see is gold. The subjective nature of the industry leaves the cost based measurements as meaningless. NPV when compared to these historical cost metrics will provide the superior returns that an effective management team provides.

"These consideration do not, of course, rule out a purely cost-based approach to valuation. With some effort it is possible to measure the investment involved in the creation of a particular complex resource, although the result is partly determined by luck. Cost data, however, clearly cannot answer by themselves the question of what the resource is worth. The demand side information is missing." pp. 4

3. Market Completeness and Strategic Search

Not to harp on the theme of the plodding along approach is the better method. The experience of the management staff that are able to "plod" along generally know that they are in a long term battle with the market. A battle for the type of results they know that they can achieve, and at less cost (and higher returns) then other methods. This model of business development is borne of a significant period of understanding and education in essentially the school of hard knocks. This struggle continues unabated irrespective of the monetary success that is achieved. These authors appear to be commenting about what the majority of successful companies have experienced.

"In summary, a realistic appraisal of market systems compels recognition that markets are incomplete, and drastically so in the domain of currently untried activities. As a result, since the value of existing activities may depend on untried activities, it cannot be guaranteed that existing activities are priced correctly. Thus when markets are incomplete, the prices prevailing in an apparent equilibrium do not preclude the existence of valuable unexploited opportunities. To exclude strategic arbitrage, a much stronger condition than market-clearing prices is necessary - we might call it "exhaustive entrepreneurship." It would have to be that for each good, traded or un-traded, there has to be someone who has considered the value of this good in all possible uses. As discussed in the next section, such a condition imposes a massively implausible information requirement on the actors in the system. Moreover, although actors can probably learn to identify the value of some of these resources, we argue that the local and decentralized character of the learning process implies that certain strategic opportunities are likely to remain. The challenges of the learning process also suggest some clues about the likely characteristics of such remaining opportunities." pp. 6

Or, in other words, irrespective of the market dynamics and the quality of the NPV, the strategic opportunities exist despite the market successes and failures. If a market participant eliminates themselves from the game before he / she even tries, then he / she will have lost for certain.

4. Valuation of Complex Resources: The Challenge of Imputation.

When I think of Google, I think of the resource that it provides me. I have 7,000 of maybe the smartest and most competent development and business people, and possibly the top 50 super computers all working actively to provide me with better processed information. A level of, essentially, artificial intelligence that has never before even been imagined. The dynamic that these Google resources provides everyone in business will allow generations of prosperous entrepreneurs. And that is maybe the point, Google's resources are available to everyone and to not use them at their optimal level eliminates you from the business environment of tomorrow.

On the other hand, how the structured hierarchy exists in this environment is of question. If individuals are provided with these opportunities in a fast pace economy, how can the structured hierarchy prosper? It would be my assertion, the longer that businesses exists under the structure of the hierarchy, the harder the change will become and the greater risk of total loss increases. These risks being the market dynamic that Winter et al are heading toward.

"To be capable of accurate calculation of this sort, an entrepreneur would require not only vast computational capacity but, more important, extensive knowledge of the transformation that are possible in the economy. Obviously, in many cases, individuals do not have immediate access to this knowledge. This raises the important question of how resources are valued in incomplete markets. In particular, when and for what types of resources can economic agents, on the basis of search and learning from experience, determine the value of resources and thus the basis of search and learning from experience, determine the value of resources and thus recognize any arbitrage opportunities? Formulated differently: when will the condition of "exhaustive entrepreneurship" be satisfied? Formally, this learning challenge is equivalent to the problems of learning to identify the value function of a large dynamic programming problem without initial knowledge of the set of possible transitions or the costs and rewards associated with each transition." pp. 8

In a nutshell the number and volume of arbitrage opportunities is incalculable. The time to be an entrepreneur and apply these principles exist as in no time in the history of mankind.

5. The Character of Strategic Opportunity.

The Architecture of Strategic Opportunities.

Staying with the way that Google does its business, if we look at this weeks announcement of Google Apps for your Domain, these products provide completely different metrics for the computer user. Microsoft Office has had its way with this market since it dispatched Lotus and Word Perfect to the scrapheap. Now they find that Google Apps will be offered at a fraction of Microsoft's prices. This is the heart and soul of Microsoft's revenues and profits. If at the same time Microsoft experiences similar difficulties on the operating system market. Say if Apple were to provide a better product for far cheaper. Microsoft would have effectively lost the lion share of their revenue and the profits will disappear in rapid fashion. Google has now effectively done this by becoming the worlds largest advertising firm. A business model that is far more resilient and valuable then Microsoft's, in my opinion.

Many might say that Google has been lucky, and there would be general agreement that it was. It is now ten years into their existence and they now have new revenue being generated through the sale of their software and services. One that strikes deeply into the competitive framework of Microsoft and provides better value to the consumer. How could someone be so bold, be so farsighted and be that smart. Well in my opinion Google is, and they got there on the basis of Winter et al's discussion here.

"Based on the above discussion of market incompleteness and the challenge of imputation, it is possible to say something about when and for what type of resources strategic opportunities may be located. As emphasized by Shleifer (2000), any systematic theory of market inefficiency, which simultaneously acknowledges the competitive forces that push markets towards efficiency, needs to answer when and why inefficiencies can occur and remain in the presence of competitive forces and the search for arbitrage opportunities." pp. 9

"The above arguments suggest that part of the answer lies in the complex, combinatorial, character of strategic opportunities. Specifically, it is unlikely that a valuable strategic opportunity can be seized simply by trading in existing resources. It is much more likely that a strategic opportunity can be found if the strategy involves trading in resources whose values are contingent upon one or several other resources being used in a new or different way, including the creation of novel types of complex resources. Unless several other actors have already recognized the opportunity and acted, resource values will not be aligned with the new uses. If these other resources are of an entirely different character or used by a completely different set of firms, identifying such an opportunity can be very challenging. Thus, there can be no presumption that this has already occurred." pp. 10

It is not to say that driving a truck through Microsoft's Office revenues and profits is something that was not considered by many. It is the foresight to see these opportunities and build, over the long term the solution that is necessary. Trading stocks based on the Efficient Market Hypothesis is a fools game, not a business. Building a business with customers and revenues and profits is a long term fight that can only be secured in the discovery of the strategic opportunities that Winter discusses here.

"This does not imply, however, that it would necessarily take a heroic effort to identify such opportunities. If a firm has preferential access to the missing piece of the puzzle, identifying the opportunity might be easy. In general, firms can be expected to differ considerably in the information they possess, even in the absence of deliberate effort to create the sorts of informational advantages that Barney referred to. Such differences in information - and differences in complementary assets - typically imply differences in positioning relative to new opportunities. Thus, in contrast to financial markets where blatant arbitrage opportunities are rare, we submit that the discovery of strategic opportunities is a normal occurrence in the product markets." pp. 10

"As emphasized above, in such situations, strategic opportunities are possible, although not guaranteed. Restated in this way, the argument of Dierickx and Cool suggests a class of resources whose values are very difficult to identify and thus could represent a strategic opportunity." pp. 10

"While such examples of accidental discovery may seem to be unlikely, we argue that the character of strategic opportunities implies that they should be expected in accounts of business success. More precisely, we argue that given that a strategic opportunity is only first discovered after some time, the discovery of this strategic opportunity is likely to have been serendipitous." pp. 11

Serendipity, as I mentioned in July of last year is a good thing. With this project coming up on it's 15th year in May, I have struggled in defining what it is I was trying to do. I started on the basis of the fresh knowledge that the Alberta Governments "Royalty Simplification" initiative would be the opportunity to provide the market place with new and better applications. I quickly promoted Oracle into following my lead and we partnered up. They decided to rename the product Oracle Energy and I was left with relatively angry shareholders. Along came PriceWaterhouse who was unhappy with their partner for Oil and Gas and we had a new deal almost right away. However, Coopers and Lybrand owned Qbyte, the market leader, and their merger with Price Waterhouse left me out of business to say the least. Stumbling as I did into what the optimal organizational structure for oil and gas was the consummate definition of serendipity.

I think that Winter et al are on to something here. I want to go back to an entry that I made late last year about Abraham Lincoln. Ralph Waldo Emerson said something in his eulogy that strikes me as incremental to what Winter et al have been able to state. The quotation is...

"The ancients believed in a serene and beautiful Genius which ruled in the affairs of nations; which, with a slow but stern justice, carried for-ward the fortunes of certain chosen houses, weeding out single offenders or offending families, and securing at last the firm prosperity of the favorites of Heaven. It was too narrow a view of the Eternal Nemesis. There is a serene Providence which rules the fate of nations, which makes little account of time, little of one generation or race, makes no account of disasters, conquers alike by what is called defeat or by what is called victory, thrusts aside enemy and obstruction, crushes everything immoral as in-human, and obtains the ultimate triumph of the best race by the sacrifice of everything which resists the moral laws of the world.' It makes its own instruments, creates the man for the time, trains him in poverty, inspires his genius, and arms him for his task. It has given every race its own talent, and ordains that only that race which combines perfectly with the virtues of all shall endure."

Words to live by. Winter et al take much of this point and clarify it and categorize it in the following:

"Rather, it is likely that the necessary subsystems were only available to or considered valuable by the firm that discovered the opportunity. There are, at least, four possible reasons for this. First, only this firm had the strategic insight into the eventual value of these subsystems. Second, by deviating from existing practice, only this firm had the complementary set of activities that made these subsystems valuable. Third, this firm is "pre-adapted"; it was endowed with the subsystems by its previous history, for reasons unrelated to their application in the new opportunity (Cattani, 2002). Fourth, this firm made a mistake and thought that these subsystems were valuable by themselves even if all reasonable firms would agree that they were not. Although all of these reasons are possible, we suggest that the complex character of the strategic opportunity makes the first reason less likely than the others. Furthermore, although mistakes are not uncommon, we would argue that the second reason and third reasons are the most important." pp. 11

"Overall, this argument suggests that strategy process leading up to the discovery of a strategic opportunity is likely to have had the following characteristics. By deviating from existing practices, perhaps by intentionally choosing an unusual strategy or by necessity due to a lack of resources required to compete in the established manner, a firm develops a set of idiosyncratic resources. Although perhaps not very valuable by themselves, these resources could be used profitably in combination with other resources. By being the only firm with access to these components the firm is thus much more likely to discover the value of this combination." pp. 12

"In a similar way, when a firm has assembled many of the necessary components, it may be able to see that these resources could be valuable if complemented with some others. As a result, the search for the last components will be intentional rather than serendipitous."

The word entrepreneur means a lot of things to a lot of people. Generally it is considered a favourable term and one that is used by most people who do not describe themselves as one. It is not something that one can pick up a book and read about how to become an entrepreneur. It is not something that a college or university can teach. It is something that drives the person to continue the pursuit, irrespective of the costs and consequences. It is a drive to complete some part of their life that is well defined in this paper of Winters. To say that Entrepreneur's are different would be an understatement.

"This characterization also suggests that there may be little to learn from examining the strategic process of successful firms. At least for firms that discovered path - breaking strategic opportunities it is likely that they deviated from established practice by necessity or mistake rather than as part of a plan. To assemble the components required for spotting a path -breaking strategic opportunity, a firm needs to have assembled several components that individually are believed to be of little value. As a result, the firm needs to engage in an unusual amount of exploration. To be motivated to do so, a firm may need to be forced to adopt some of the elements or may need to adopt them by mistake (Denrell and March 2001). If this is so, the strategic opportunities of the most successful firms are likely to have developed through a process that it would be unwise to try." pp. 12

To close out this entry, I want to say this paper really resonates with me and the life that I have lived for the past 15 years. It is a tough and difficult struggle, but one that has defined me as Emerson said. These last few paragraph's display for me that the writers clearly have captured the essence of being an entrepreneur and related it well in these final words.

"...being the first in the know may enable an entrepreneur to create limits to post competition. Thus in this sense, ex post limits to competition may be a direct outcome of ex-ante limits to competition. Several examples of such situations have been outlined in the literature, including investments in over capacity to deter entrants (Dixit 1980) and tying up favorable locations and suppliers (Porter 1980)." pp. 14

"Although this analysis implies that detailed strategic guidance is necessarily specific to the firm and its situation, the notion of serendipity does have some general prescriptive force. While good luck may befall the inert or lazy, serendipitous discovery occurs only in the course of an energetic quest - a quest in which lucky discoveries of an unanticipated kind can be recognized through alertness and then flexiblly exploited." pp. 14

"This perspective on strategy is consistent with a large and growing body of evidence on the relationship of firm attributes to their entry decisions, innovations and other strategic moves, much of it recently reviewed by Helfat and Lieverman (2002) (see also Usselman 1993, Klepper and Simons 2000) In general the evidence shows that opportunities are specific and firms that seize them are usually specifically prepared for them by their "pre-history". This mechanism is the counterpart of "pre-adaptation" in biologic evolution (Cattani 2002). Our perspective is also well aligned with the discussion by (Sarasvathy 2001) about the characteristics of the thought process used by entrepreneurs. Using verbal protocols from experienced entrepreneurs faced with a hypothetical venture problem, Sarasvathy (2001) demonstrated that the thought process of entrepreneurs is more likely to start from the givens of a situation and to proceed by investigating the possible effects and market opportunities that could be created with these means. Goal directed thinking, which a market opportunity was identified at first and the means to achieve directed thinking, in which a market opportunity was identified at first and the means to achieve this opportunity were discussed later, was much less frequent." pp. 15

"The challenge of strategy is the challenge of assessing the opportunities that open to an idiosyncratically positioned actor in a changing environment. For this, the challenge of stock picking provides a poor analogy, because in the context actor idiosyncrasy plays a much smaller role. This assessment is clearly consistent with the central tenets of the RBV, but not with the discouraging words sometimes about resource pricing." pp. 15

Photo: Getty Museum by Troels

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